3. Assume that Morrison Company used cash to acquire machinery expected to contribute to the
generation of revenues over a three-year period and the company erroneously expensed the cost to
acquire the machine.
Required:
a. Describe the effects on ROA of the error over the three-year period.
b. Explain how the error would affect the statement of cash flows.
4. Assume that Hsu Company needs to acquire a large special-purpose materials handling facility. Given
that no outside vendor exists for this type of facility and that the company has available engineering,
management, and productive capacity, the Hsu borrows funds and builds the facility. Identify the costs
that should be capitalized as part of this facility.
5. The three types of costs incurred in coal production are acquisition costs (costs to acquire the coal rich
lands plus the present value of future cash flows necessary to restore the sites minus the cost of the
land), exploration costs (costs of mining), and development costs (pipes, roads, and so on, to extract
and transport the coal to customers).
Required:
Should each of these costs be capitalized or expensed? Explain.
6. U.S. GAAP requires firms to expense immediately all internal expenditures for R&D costs.
Alternatively, U.S. GAAP could require firms to capitalize and subsequently amortize all internal
expenditures on R&D that have future potential.
Required:
Why have standard setters chosen not to allow the capitalization alternative? How would analysts be
better served if U.S. GAAP required capitalization of R&D costs?
7. For some transactions U.S. GAAP requires that value changes are recognized on the balance sheet and
the income statement when they occur, even if not realized. Discuss what types of transactions get this
type of treatment and the logic behind this accounting.
8. Harbour Company purchased a new piece of equipment with a list price of $200,000 and subject to a 6
percent discount if paid within 45 days. Harbour paid within the discount period. The company also
paid $1,650 to obtain title to the equipment and $650 as the license fee for the first year of operation. It
paid $2,475 to level the area in which the equipment would be located and $11,750 to relocate other
equipment that would have interfered with the proper operation of the new equipment. Harbour paid
$500 for property and liability insurance for the first year of operation. What is the acquisition cost of
this equipment that Harbour should record in its accounting records? Indicate the treatment of any
amount not included in acquisition cost.
9. Carlson Company began constructing a building for its own use in January 2012. During 2012,
Carlson incurred interest of $75,000 on specific construction debt and $16,750 on other borrowings.
Interest computed on the weighted-average amount of accumulated expenditures for the building
during 2012 as $55,000
Required:
What amount of interest should Carlson capitalize?
10. Coffee Corp. purchased 45% of the outstanding shares of Cream Corp. for $1,845,000. The investment
allows Coffee to exert significant influence over the operations of Cream. During 2011 Cream
recognized net income of $2,500,000 and paid $650,000 in dividends. Discuss how Coffee should
account for its investment in Cream and how the information would appear in Coffee’s balance sheet,
income statement, and cash flow statement.
11. You are trying to determine the functional currency of a foreign unit. For the following three factors
determine what conditions would result in the foreign currency being the functional currency:
a.
Sales Prices
b.
Financing
c.
Relationships between the Parent and the Foreign Unit
7-21
12. Although the organizational structure and operating policies of a particular foreign unit determine its
functional currency, discuss two actions that a management team might take to ensure that the foreign
currency is the functional currency.
13. Interpretation No. 46R relates to the issue of whether an investing firm is the primary beneficiary in a
variable-interest entity. When is an entity classified as a variable interest entity?
14. When there are two or more investing firms in an entity, how is it determined which entity
consolidates the variable interest entity?
ANS:
15. On January 1, 2012, Brock Company purchased $200,000, 8% bonds of Universal Co. at par. Interest
is payable annually on December 31. The bonds mature in five years on December 31, 2016.
Required
At the date of purchase at what amount should Brock record the bond investment?
Determine the amount of cash interest Brock would receive in 2012.
At December 31, 2012 the bonds have a fair market value of $203,500 how will this
information affect Brock’s financial statements given that the bonds are classified as:
Held-to-Maturity
Trading
Available for Sale
1.
The bonds will be recorded at cost $200,000.
Cash interest will equal 8% * $200,000 = $16,000
16. United owns Estada, a European based subsidiary for which the Euro is the functional currency. Estada
had a net asset position at January 1, 2012 of 1,200,000 Euros and reported income of 350,000 Euros
for 2012, which was earned evenly throughout the year. In addition, Estada paid 100,000 Euros of
dividends at December 31, 2012. The following were in effect during 2012:
January 1, 2012
1 Euros = $0.89
Average for 2012
1 Euros = $0.98
December 31, 2012
1 Euros = $1.10
Determine the amount of the unrealized translation gain or loss United should record for 2012 with
respect to Estada.
Net asset position 1/1/12
1,200,000 Euros * $0.89
Plus income
350,000 Euros * $0.98
Less dividends
(100,000)Euros * $1.10
7-23
PROBLEM
1. Caruso Company incurred the following costs during 2012 in connection with its research and
development activities.
Cost of equipment acquired that will have alternative
uses in future R&D projects over the next 4 years
(uses straight-line depreciation)
$220,000
Materials consumed in R&D projects
67,000
Consulting fees paid to outsiders for R&D projects
80,000
Personnel costs of persons involved in R&D projects
108,000
Indirect costs reasonably allocable to R&D projects
45,000
Materials purchased for future R&D projects
34,000
REQUIRED: Compute the amount to be reported as research and development expense by Caruso on
its income statement for 2012. (Assume equipment is purchased at the beginning of the year and
economic viability has not been achieved.)
2. The following problem requires some of the following present value information:
PV of an ordinary annuity for 20 periods at 12%
7.46944
PV of an ordinary annuity for 19 periods at 12%
8.3649 7.36578
PV of an ordinary annuity for 18 periods at 10%12%
8.2014 7.24967
PV of 1 for 20 periods at 10%12%
0.10367
Bioco sold a patent on a new laser process to Agent Co. The sales agreement which was signed on
January 1, 2011 requires Agent Co. to pay Bioco $2 million immediately. In addition, Agent is
required to pay 500,000 each December 31 for 20 years starting with December 31, 2011. Agent and
Bioco estimate that 12 percent is an appropriate interest rate for this arrangement.
Required:
a.
Compute the present value of the receivable on Bioco’s books on January 1, 2011
immediately after receiving the $1 million down payment.
b.
Compute the present value of the receivable on Biotech’s books on December 31,
2011.
c.
Compute the present value of the receivable on Biotech’s books on December 31,
2012.
3. Buchaneer Co., a waste collection company, estimates that its landfill will be in operation for five
years and will cost $300 million to build, with generation of $900 million in revenues during its useful
life. According to Federal Law, Buchaneer must decommission and decontaminate the site at the end
of its useful life. Based on estimates by its engineers, Buchaneer will have to spend $20 million on
this process when the landfill is finally shut down in five years. Buchaneer’s credit adjusted rate of
interest is 10%. (Hint: Use PV factors to estimate fair value of this ARO.)
Required:
1. In accounting for asset retirement obligations, how should Buchaneer account for the costs
associated with this decommisioning process according to U.S. GAAP? Show journal entries and
prepare an amortization table.
2. How should these costs be reported on the income statement and how does this treatment improve
the matching process?
7-25
4. Six years ago Moline Industries acquired a new machine to use in it primary manufacturing operations.
The machine cost $47 million and the company expected the machine to have a ten-year useful life
with a zero salvage value. The company uses straight-line depreciation for the asset. However,
because of changes within the industry, Moline reevaluated the machine at the end of Year 6 and
estimated that the machine is capable of generating undiscounted future cash flows of $12 million.
Based on the quoted market prices of similar assets, Moline estimates the fair value of the machine at
$10.5 million.
7-26
Required:
1. What is the machine’s book value at the end of Year 6?
2. Should Moline recognize an impairment of the asset? Why or why not? If yes, what amount?
3. At the end of Year 6, what amount should the machine be listed at on Moline’s balance sheet?
5. Pop, Inc. acquires 100% of the outstanding shares of Snap Corp. for $3,923,450 and accounts for the
transaction using the purchase method. The purchase price Pop paid for Snap exceeded Snap’s book
value for four reasons:
1.
Snap’s long-term depreciable assets have a market value of $1,250,000.
2.
Deferred income taxes of $125,000 arise from the excess of market value over the book
value of the depreciable assets.
3.
Pop assigns a value of $90,000 to Snap’s customer list and records it as an intangible asset.
4.
Goodwill exists equal to the difference between the acquisition cost and the market value of
the identifiable assets and liabilities acquired.
Information about Pop and Snap’s balance sheet at the acquisition date and the current market value of
Snap’s assets appears below:
Consolidated Financial Information
Pop, Inc. and Snap Corp.
Acquisition Date
Historical
Cost-Pop
Historical
Cost-Snap
Snap at
Current
Market
Value
Consolidated
at Date of
Acq.
Assets
Current Assets
$ 4,230,600
$1,330,000
$1,330,000
Depreciable Assets less
Accumulated Depreciation
$ 7,245,000
$ 945,000
$1,250,000
Intangible Asset – Customer
List
$ 0
$ 0
$ 90,000
7-27
Goodwill
$ 0
$ 0
Total Assets
$11,475,600
$2,275,000
Liabilities and Equities
Liabilities
$ 6,100,600
$1,670,000
$1,670,000
Deferred Income Tax Liability
$ 0
$ 0
$ 125,000
Shareholders’ Equity
$ 5,375,000
$ 605,000
Total Liabilities and Equities
$11,475,600
$2,275,000
Required: Complete the table for Snap’s current market values and the consolidated amounts at the
date of acquisition.
6. Below you will find the balance sheet and income statement of a US Corp.’s foreign subsidiary at the
end of its first year of operations. The following exchange rates were in effect during the period:
Jan. 1, 2012 – $1 = 1FC
Dec. 31, 2012 – $1.70 = 1FC
The average exchange rate during the period was $1.40=1FC. The common stock was issued on
January 1, 2012.
Assuming that the foreign currency is the functional currency translate the financial statements into
U.S. dollars.
Balance Sheet
As of December 31,
2012
Liabilities and Equities
7-28
(Amounts in Foreign Currency)
Assets:
Cash and cash equivalents
18,000
Accounts Receivable
33,000
Inventory
24,000
Current Assets
75,000
Equipment
42,225
Less: Accumulated depreciation
(1,725)
Equipment-Net
40,500
Land
34,500
Total assets
150,000
Liabilities
Accounts Payable
48,000
Accrued Salaries Payable
14,758
Rent Expense Payable
7,500
Income Tax Payable
3,000
Current Liabilities
73,258
Long-term note payable
45,000
Total Liabilities
118,258
Stockholders’ Equity:
Common stock
30,000
Retained earnings
1,742
Total liabilities and stockholders’ equity
150,000
Income Statement
For the year ended December 31, 2012
(Amounts in foreign currency)
Revenues
97,500
Cost of goods sold
(58,500)
Gross Profit
39,000
Operating Expenses
Depreciation expense
(1,725)
Salary expense
(24,625)
Insurance Expense
(1,700)
Rent Expense
(4,875)
Interest Expense
(2,520)
Total Operating Expenses
(35,445)
Income from Operations
3,555
Income Tax Expense
(1,067)
Net income
2,488
Dividends paid to Common Shareholders
747
Current Assets
Less: Accumulated depreciation
Current Liabilities
Total Liabilities
Retained earnings
Gross Profit
Operating Expenses
Total Operating Expenses
Income Tax Expense
Less Dividends
Less Dividends
7. Stock Trader, Inc. began operations in 2012. Stock Trader has acquired a number of equity
investments during 2012. None have been sold. Stock Trader exerts no influence over any of its
investments each of which represents a small percentage of the investee. An analysis of Stock Trader’s
investment portfolios shows the following totals at December 31, 2012:
Trading Securities
Available-for-Sale
Securities
Aggregate Cost
$49,000
$65,000
Aggregate Fair Value
$39,000
$90,000
Dividends received from
investments
$ 5,000
$ 9,000
Based on the information provided, describe how Stock Trader would present this information in its
financial statements. You should discuss what amounts would appear in each financial statement.
8. Examine the five following cases and determine if the functional currency of a U.S. parent’s foreign
unit is the foreign currency or the U.S. Dollar.
Scenario
Functional Currency is?
Receivables and payables denominated in
foreign currency are not usually remitted to
parent company.
Sales prices are influenced by worldwide
competitive conditions and responsive on a
short-term basis to exchange rate changes.
Foreign unit obtains materials primarily from
its own country.
The unit’s financing is taken care of through
ongoing fund transfers by the parent.
There is a low volume of intercompany
transactions and little operational
interrelations between the U.S. parent and
foreign unit.
Scenario
Functional Currency is?
Receivables and payables denominated in
parent company
Sales prices are influenced by worldwide
competitive conditions and responsive on a
short-term basis to exchange rate changes.
Foreign unit obtains materials primarily from
its own country.
ongoing fund transfers by the parent.